1. Introduction To Corporate Finance

2. Key Concepts and Skills
Know the basic types of financial management decisions and the role of the financial manager
Know the financial implications of the different forms of business organization
Know the goal of financial management
Understand the conflicts of interest that can arise between owners and managers
Understand the various types of financial markets

3. Chapter 1: Outline What is Finance?
Corporate Finance and the Financial Manager
Forms of Business Organization
The Goal of Financial Management
The Agency Problem and Control of the Corporation
Financial Markets and the Corporation
www: This is a good place to show the students the web site that accompanies the book, including the various features that they can access for study purposes (study guide, quizzes, web links, etc.). Click on the “web surfer” icon to go directly to the site.

4. What is Finance? The art and science of managing money.
Acct Finance Econ.
Math

5. Corporate Finance
Some important questions that are answered using finance
What long-term investments should the firm take on?
Where will we get the long-term financing to pay for the investment?
How will we manage the everyday financial activities of the firm?
Emphasize that “business finance” is just another name for “corporate finance” mentioned under the four basic types. Students often get confused by the terminology, especially when different terms are used to refer to the same thing.

6. Corporate Finance
Corporate Finance, broadly speaking, is the study of ways to answer these three questions.
Emphasize that “business finance” is just another name for “corporate finance” mentioned under the four basic types. Students often get confused by the terminology, especially when different terms are used to refer to the same thing.

7. Financial Manager
Financial managers try to answer some or all of these questions
The top financial manager within a firm is usually the Chief Financial Officer (CFO)
Treasurer – oversees cash management, credit management, capital expenditures, and financial planning
Controller – oversees taxes, cost accounting, financial accounting and data processing
Video Note: This video looks at the changing role of the Chief Financial Officer (CFO) at the Fortune 500 company, Abbot Laboratories.

8. Financial Management Decisions
Capital budgeting
What long-term investments or projects should the business take on?
The process of planning and managing a firm’s investments in fixed assets.
The key concerns are the size, timing and riskiness of future cash flows.
To identify investment opportunities that are worth more to the firm than they cost to acquire.
Provide some examples of capital budgeting decisions, such as what product or service will the firm sell, should we replace old equipment with newer, more advanced equipment, etc.

9. Financial Management Decisions
Capital structure
How should we pay for our assets?
Mix of debt (borrowing) and equity (ownership interest) used by a firm.
What are the least expensive sources of funds?
Is there an optimal mix of debt and equity?
When and where should the firm raise funds?
Be sure and define debt and equity.

10. Financial Management Decisions
Working capital management
How do we manage the day-to-day finances of the firm?
Managing short-term assets and liabilities.
How much inventory should the firm carry?
What credit policy is best?
Where will we get our short-term loans?
Provide some examples of working capital management, such as who should we sell to on credit, how much inventory should we carry, when should we pay our suppliers, etc.

11. Forms of Business Organization
Three major forms in the United States
Sole proprietorship
Partnership
General
Limited
Corporation
S-Corp
Limited liability company
www: Clicking on the “web surfer” will take you to a web site that will provide a discussion about which form of business may be appropriate for an entrepreneur. The following pages will provide links to specific pages on the web site that provide additional information about the legal aspects of each form of business, as well as a discussion of the advantages and disadvantages. The address is:

12. Sole Proprietorship Advantages Disadvantages Easiest to start
Least regulated
Single owner keeps all the profits
Taxed once as personal income
Disadvantages
Limited to life of owner
Equity capital limited to owner’s personal wealth
Unlimited liability
Difficult to sell ownership interest
www: Click on the “web surfer” for more information about sole proprietorships. If you click on the “--Sole Proprietorship” link, you will be taken to an index that will provide a link to information about husband and wife sole proprietorships.

13. Partnership Advantages Disadvantages Two or more owners
More capital available
Relatively easy to start
Income taxed once as personal income
Disadvantages
Unlimited liability
Limited Life
Partnership dissolves when one partner dies or wishes to sell
Difficult to transfer ownership
www: Click on the “web surfer” for more information about partnerships. If you click on the “—Partnerships” link, you will go to an index that provides links to additional information about limited partnerships, partnership agreements, and buy-sell agreements.
Note that unlimited liability applies to all partners in a general partnership but only to the general partners in a limited partnership.
Written agreements are essential due to the unlimited liability.
Limited partners cannot be involved in the business or else they may be deemed as general partners.

14. Corporation Advantages Disadvantages Limited liability Unlimited life
Separation of ownership and management
Transfer of ownership is easy
Easier to raise capital
Disadvantages
Separation of ownership and management
Double taxation (income taxed at the corporate rate and then dividends taxed at the personal rate)
www: Click on the “web surfer” to go to a page that discusses corporations. If you click on the “—Corporations” link it will take you back to an index that provides links to additional information on corporations as well as limited liability corporations.
Discuss how separation of ownership and management can be both an advantage and a disadvantage:
Advantages
You can benefit from ownership in several different businesses (diversification)
You can take advantage of the expertise of others (comparative advantage)
Easier to transfer ownership
Disadvantage
Agency problems if management goals and owner goals are not aligned
The instructors manual provides additional discussion of limited liability companies and S-corporations

15. Goal Of Financial Management
What should be the goal of a corporation?
To survive?
Avoid financial distress and bankruptcy?
Beat the competition?
Maximize profit?
Minimize costs?
Maximize sales or market share?
Maintain steady earnings growth?
Does this mean we should do anything and everything to maximize owner wealth?
Try to have the students discuss each of the goals above and the inherent problems of the first three goals:
Maximize profit – Are we talking about long-run or short-run profits? Do we mean accounting profits or some measure of cash flow?
Minimize costs – We can minimize costs today by not purchasing new equipment or delaying maintenance, but this may not be in the best interest of the firm or its owners.
Maximize market share – This has been a strategy of many of the dot.com companies. They issued stock and then used it primarily for advertising to increase the number of “hits” to their web sites. Even though many of the companies have a huge market share (I.e. Amazon) they still do not have positive earnings and their owners are not happy.
Maximize the current value of the company’s stock
There is no short run vs. long run here. The stock price should incorporate expectations about the future of the company and consider the trade-off between short-run profits and long-run profits.
The purpose of a for-profit business should be to make money for its owners. Maximizing the current stock price increases the wealth of the owners of the firm.
This is analogous to maximizing owners’ equity for firms that do not have publicly traded stock.
Non-profits can also follow the same principle, but their “owners” are the constituencies that they were created to help.
The instructors manual provides a letter to stockholders that was written by former Coca-Cola CEO Roberto Goizueta. There is also a brief discussion of an article that appeared in Fortune magazine that discusses Coke vs. Pepsi and their different philosophies on business in the early 1990’s.
Ethics Note: See the instructor’s manual for a discussion of Dow-Corning, silicone breast implants, and the ethics involved with pursuing owners’ wealth at all costs.

16. Goal Of Financial Management
To maximize the current value per share of the existing stock.
Try to have the students discuss each of the goals above and the inherent problems of the first three goals:
Maximize profit – Are we talking about long-run or short-run profits? Do we mean accounting profits or some measure of cash flow?
Minimize costs – We can minimize costs today by not purchasing new equipment or delaying maintenance, but this may not be in the best interest of the firm or its owners.
Maximize market share – This has been a strategy of many of the dot.com companies. They issued stock and then used it primarily for advertising to increase the number of “hits” to their web sites. Even though many of the companies have a huge market share (I.e. Amazon) they still do not have positive earnings and their owners are not happy.
Maximize the current value of the company’s stock
There is no short run vs. long run here. The stock price should incorporate expectations about the future of the company and consider the trade-off between short-run profits and long-run profits.
The purpose of a for-profit business should be to make money for its owners. Maximizing the current stock price increases the wealth of the owners of the firm.
This is analogous to maximizing owners’ equity for firms that do not have publicly traded stock.
Non-profits can also follow the same principle, but their “owners” are the constituencies that they were created to help.
The instructors manual provides a letter to stockholders that was written by former Coca-Cola CEO Roberto Goizueta. There is also a brief discussion of an article that appeared in Fortune magazine that discusses Coke vs. Pepsi and their different philosophies on business in the early 1990’s.
Ethics Note: See the instructor’s manual for a discussion of Dow-Corning, silicone breast implants, and the ethics involved with pursuing owners’ wealth at all costs.

17. The Agency Problem Agency relationship Agency problem
Principal hires an agent to represent his/her interests
Stockholders (principals) hire managers (agents) to run the company
Agency problem
Conflict of interest between principal and agent
Management goals and agency costs
A common example of an agency relationship is a real estate broker – in particular if you break it down between a buyer’s agent and a seller’s agent. A classic conflict of interest is when the agent is paid on commission, so they may be less willing to let the buyer know that a lower price might be accepted or they may elect to only show the buyer homes that are listed at the high end of the buyer’s price range.
Ethics Note: The instructor’s manual provides a discussion of Gillette and the apparent agency problems that existed prior to the introduction of the sensor razor.
Direct agency costs – the purchase of something for management that can’t be justified from a risk-return standpoint, and monitoring costs.
Indirect agency costs – management’s tendency to forgo risky or expensive projects that could be justified from a risk-return standpoint.

18. Managing Managers Managerial compensation Corporate control
Incentives can be used to align management and stockholder interests
The incentives need to be structured carefully to make sure that they achieve their goal
Corporate control
The threat of a takeover may result in better management
Other stakeholders
Incentives – discuss how incentives must be carefully structured. For example, tying bonuses to profits might encourage management to pursue short-run profits and forego projects that require a large initial outlay. Stock options may work, but there may be an optimal level of insider ownership. Beyond that level, management may be in too much control and may not act in the best interest of all stockholders. The type of stock can also affect the effectiveness of the incentive.
Corporate control – ask the students why the threat of a takeover might make managers work toward the goals of stockholders.
Other groups also have a financial stake in the firm. They can provide a valuable monitoring tool, but they can also try to force the firm to do things that are not in the owners’ best interests.

19. Work the Web Example
The Internet provides a wealth of information about individual companies
One excellent site is finance.yahoo.com
Click on the web surfer to go to the site, choose a company and see what information you can find!

20. Financial Markets Cash flows to the firm Primary vs. secondary markets
A. Firm issues securities to raise cash.
B. Firm invests in assets.
C. Firm’s operations generate cash flow.
D. Cash is paid out to govt. as taxes.
E. Cash reinvested in the firm.
F. Dividends and debt payments are made.
Primary vs. secondary markets

21. End of Chapter